Why Business Buyers and Sellers Should Not be Concerned about High-Interest RatesThree reasons why high-interest rates should not stop you from buying or selling a business - Issue #1 By Eric J. Gall
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1) The business must cash flow with the debt service All buyers are looking for three things when establishing a fair price to purchase a business:
When purchasing a business as a 100% cash transaction, there is no interest being paid to acquire the business; therefore, interest rates should have no effect on a cash acquisition. When the buyer must leverage the acquisition via seller financing, SBA loan, etc. in order to acquire the business, the market dictates the interest rate. Presently, interest rates for SBA loans have exceeded 10%. Conventional financing and hard money lenders may charge more. Many buyers and sellers have expressed concern. Here is why you need not worry. The additional interest burden will eat into a buyer's cash flow. In order to mitigate the impact of the additional interest charges, a buyer must lower their price to account for the added interest rate burden. In the end, they must still achieve the three items mentioned earlier. Sellers will benefit from being able to invest their proceeds from the sale in a higher interest rate environment; hopefully, making up for the lower price. In summary, buyers must lower their offering prices in order to achieve the minimum ROI the business will produce after paying them a fair salary and paying down the debt. Sellers must adjust their expectations of the selling price to accommodate the buyer's increased debt service; however, they will benefit from being able to reinvest their proceeds at higher interest rates. 2) What goes up, must come down Although it is possible that interest rates may go up further, historical averages for SBA interest rates have been in the 7% to 9% range. Now that they are above 10%, the expectation should be at some point in time a return to normal historical averages. If this happens, buyers can benefit either from a loan with adjustable interest rates or from refinancing the deal. In a scenario where the interest rates decline, the buyer will benefit due to the added cash flow as the interest rate burden decreases. Recent surveys of buy-side activity in the M&A and small business acquisition space are still bullish heading into 2023. Private equity groups and high-net-worth investors, all still have significant capital they need to apply to business acquisitions. On the sell-side, there are still a substantial number of baby boomer small business owners hitting retirement age within the next five to 10 years. This should keep the sale of privately held businesses relatively hot through the next decade. Recent stock market volatility should not be a concern. During the Great Recession, first, the stock market took a nosedive and reached some all-time lows, only to rebound to all-time highs. It continues its volatility today. Recent downturns could once again see significant upturns. Conclusion With minor adjustments to price expectations to account for increased debt service due to higher interest rates, the sale and acquisition of privately held businesses should remain strong throughout 2023 and beyond. Buyers hesitating due to fear of higher interest rates are likely to miss out on opportunities driven by what amounts to a baseless fear. Sellers are concerned buyers will be less active due to the high-interest rates and are also likely to miss out. Certainly, the market has changed; however, individual mindsets and our approach to pricing must simply change with this market. If you have any questions, please contact us at [email protected] |
Steven G. Niehaus
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